Can somebody give some intuition behind this thing? Also, why the NPV for a real estate project needs to be different than the standard formula? You has: NPV=PV (CFAT discounted @ after-tax required rtrn)+PV(of ERAT)-Initial equity investment… tnx
ERAT = selling px - selling costs - mortgage balance - taxes on sale (which gets a bit painful to calc b/c it includes recaptured depreciation tax and long term capital gains tax). but more or less, you’re taking your net selling price (the selling px - costs) and then just taking out your mortgage and taxes to figure out what your real estate project is worth after all of this junk is paid off. as for the npv part, i think it feels a lot like the normal NPV stuff- the CFAT are the cash flows, the PV of the ERAT is i guess like a terminal value discounted back at an after tax discount rate. note on the NPV/IRR stuff here it just says EVALUATE and not CALCULATE- so like all things, positive NPV’s are good and with a potential multiple IRR problem (if cash flows change signs during lifetime), use NPV. note also that big differences in the size of the projects can get you to some IRR/NPV conflict. i think the key takeaway on the NPV stuff is the same everywhere else in the cirriculum, back to L1. if we have to actually calc out ERAT, that’d be a long problem on the test. last year’s item set was all about real estate but it didn’t touch ERAT. i’d almost venuture a guess that this year’s will be on PE, but you never know.
Thanks bannisja, Last year I totally skipped Alternatives. Guess why am still here… Cant take any chances with this beast. Has me rattled :((